Who Decides What Is Money?

During a 2011 congressional banking subcommittee hearing, Texas congressman
Ron Paul - long a champion of gold's role in the financial world - asked
Federal Reserve Chairman Ben Bernanke if gold is money. "No," replied Bernanke, "It's
an asset." Video of
this exchange went viral in the gold-bug community, because the difference
between money and an asset is, to people who care about such things, both
profound and crucial to the future of the global financial system.

The subtext of the Paul/Bernanke exchange was a slightly different but equally
important question: Can a government simply decree that what has functioned
as money for 5,000 years no longer be money? This question has been debated
in various forms and forums since the first government began debasing its
currency eons ago. But the modern iteration can be traced back to the Great
Depression. Recall that at the time the US was on a gold standard, and a
paper dollar was simply a warehouse receipt for 23.222 grains of gold (approximately
1/20th of a troy ounce), while a dollar in a bank account was in theory exchangeable
for those paper receipts (dollar bills). But because the Federal Reserve
issued up to 2½-times more receipts than gold and because banks operated
on a fractional reserve system, the total quantity of claims vastly outnumbered
the weight of gold held in reserve.

After the 1929 stock market crash, the fractional reserve system began working
in reverse (see Chapter 15), leaving the US - and much of the global - economy
on the verge of imploding.

For countries on the gold standard, currency devaluation was seen as an admission
of failure and deemed dishonorable because it allowed a country to pay off
its debts in currency that had less purchasing power than at the time the
loans were made. Nevertheless, devaluation was grudgingly accepted as last-ditch
strategy for badly-run countries to boost economic growth and avoid a depression
or more direct form of default.

The US, as it turned out, chose to both devalue its currency and default on
its debts. Shortly after his inauguration in 1933, President Franklin Roosevelt
concluded that US problems were serious enough to warrant devaluation of
the dollar, among other aggressive policies. Under Article I, Section 8 of
the Constitution, only Congress had the power to "regulate"6 the relationship
between the dollar and gold, but FDR claimed that authority for the presidency.
And instead of simply decreeing that henceforth the dollar was worth less
gold than before, FDR first confiscated Americans' privately-held gold and
made it illegal to own the metal - and then devalued the dollar against gold,
effectively taking the difference between the purchasing power of the gold
citizens turned in and the dollars they received in return. This was, to
put it bluntly, theft. It was also a partial default on US debt, much of
which carried "Gold Clause" provisions specifying that it was payable in
specific weights of gold.

The implications of FDR's actions, however, went far beyond a garden-variety
asset confiscation or currency devaluation. By making gold ownership illegal,
FDR was asserting the primacy of government over the market in deciding what
constitutes money. In the process, it made the right of private contract
- a fundamental pillar of law heretofore considered sacrosanct - subservient
to the government's conception of the "national interest."

By lifting the restraint that sound money places on federal spending, FDR
fundamentally altered the relationship between Americans and their government.
Previously, governments could borrow modestly (by today's standards) but
for the most part could spend only the money that they had on hand. Money
was gold, and the coins and bars in the national treasury helped define the
government's wealth while limiting its ability to promise all things for
all constituencies. In the future FDR created, governments would be free
to act as they saw fit, simply creating a desired amount of paper fiat currency
and spending it to make the world a better place - as defined by the people
in charge. Perhaps FDR's goal was the public good rather than what is now
often called an "imperial presidency." But regardless of his intent or motivation,
as the brief tour of monetary history in Chapter 1 makes clear, a government
with a printing press is a monster in the making.

John Rubino edits DollarCollapse.com and has authored or co-authored five
books, including The Money Bubble: What To Do Before It Pops, Clean
Money: Picking Winners in the Green Tech Boom, The Collapse of the Dollar
and How to Profit From It, and How to Profit from the Coming Real Estate
Bust. After earning a Finance MBA from New York University, he spent the
1980s on Wall Street, as a currency trader, equity analyst and junk bond analyst.
During the 1990s he was a featured columnist with TheStreet.com and a frequent
contributor to Individual Investor, Online Investor, and Consumers Digest,
among many other publications. He now writes for CFA Magazine.